Vodafone’s admission of merger talks with Idea Cellular is an inflection point in Indian telecom history

 

The confirmation that Vodafone Group is in talks with Idea Cellular for a “potential combination”, a merger, did not cause too many ripples among telecom insiders. Reliance Jio’s entry into the market and Airtel’s concerted efforts to retain its market share was expected to lead to a shake-up with smaller players either banding together as partners or merging with each other. What caused consternation was hidden in the second paragraph of the succinct press release issued by the Vodafone Group.

The deal, if at all, said the press release, would be a “merger effected through the issue of new shares in Idea to Vodafone and would result in Vodafone deconsolidating Vodafone India”. The nicely worded nuance means that if the merger happens, Idea Cellular will not pay the Vodafone Group a single rupee in hard cash immediately for its India holding. It’s an open admission of a stark truth: both companies don’t have money and their war chest is running close to empty. New shares presumably would be issued at prices based on a valuation of Vodafone’s network, customer base and its assets, and will probably be ring-fenced with a lock in period. And yes, “deconsolidating” means that Vodafone, if the deal goes through, would wind up its operations in India.

The Indian telecom market is probably the toughest and most competitive in the world. It has been so for some years now. Today there are close to 1.1 billion mobile telephone connections in India, with the country hitting the billionth mark in the month of October last year. Only China has more mobile connections than us. This intense competition has been extremely good to India. Mobile penetration has been growing at a phenomenal 60 percent plus year-on-year for the last seven years, with the growth of the footprint increasing to 70 percent plus Y-o-Y from 2012.

To put things in perspective, the number of mobile phone subscribers grew by nearly 7 million in a month, from September 2016 to October 2016. Denmark has a population of 5.6 million. India is literally adding one Denmark plus a million or so every single month. The number of smartphone users in India is 220 million, second largest in the world, and is expected to touch 370 million by the end of 2017. And, Indians pay just about a rupee for every minute of a call, one of the cheapest in the world.

Reuters

Reuters

The intensity of the competition has also taken its toll with many companies exhausted, out of ideas and virtually running on empty, or on corporate debt. Unlike several other sectors, telecom is a tough place to make a mark due to three main reasons, and one minor one. First, the capital expenditure on setting up the network and the technology infrastructure needs a top up every three-five years to keep pace with rapid changes in technology, standards, consumer base and the innovative manner in which the pipe is used to deliver all sorts of transactions and services: from digital payments to dating. In a way, one wouldn’t be too much off the mark if one were to say that the standard business models and traditional balance sheets with a clear distinction between capital expenditure, operating expenditure and amortization is not applicable to the telecom sector.

One question: If capital expenditure is topped up so frequently, isn’t that operating expenditure? Second, it’s also possibly the only industry [the other exception being the fertilizer industry] where the ancillary units, in this case the telecom tower companies, router manufacturers, network equipment makers, content providers, are doing extremely well, while the core engine is struggling.  It’s linked directly to the first point and the customised business models that the companies in the telecom sector necessarily have to construct in order to attract and retain customers and keep themselves relevant. For instance, owning every part of the value chain [say the telecom tower business] will bleed a company dry unless the company is ready with a war chest that allows it to stay the course for a long time.

Third, the Indian customer is a rapidly maturing one and is ever ready to adopt and adapt new technologies, offerings, services and, all at the right price point. The telecom service providers have to realise this, and this realisation is more applicable to the older players than the newer ones. Somewhere this realisation, or the lack of it, is also indictment of the obsolete business models followed by some of the telecom players where the focus is on voice and data, rather than on content, transactions, payment systems and OTT services. Just to keep things in perspective, India tops the list in the world in terms of the number of Apps being downloaded every year.

The Indian mobile consumer, predominantly a male, is one who has taken a huge leap directly from the analog to the smartphone world, without ever experiencing Internet over a desktop, laptop or even a tablet. The innovative and completely out-of-box manner in which a smartphone is used by an average Indian is both a challenge and an opportunity to evolve a model that’s sustainable and brings in the right kind of revenues. The fourth point, relatively minor, is numerous changes, from spectrum allocation to import duties on equipment, brought about by the government in the early days of the mobile telecommunications revolution. The older players have a right to feel a little aggrieved, having borne the physical and financial cost of the government’s lack of clarity. Having said, however, today the policy regime is stable, relatively transparent and open to true play of market dynamics.

It’s within this context that Vodafone’s admission of talks of a merger with Idea Cellular needs to be located. The open admission of two significant players wanting to join forces, and yet not having the money to pay for it is an inflection point in the Indian telecom sector. More such potential mergers can be expected before the year ends. It‘s also an indication of the shape of things to come: post Jio’s launch in September, Idea’s Y-o-Y  net profit for the quarter ending FY17 fell a steep 99%. Vodafone, during the same quarter, saw a massive 100,000 subscribers desert its ship. Moreover, Jio is the only operator with a 4G presence in all 22 circles. Interestingly, Idea, which has 4G in 10 circles, is planning to launch it in 9 more circles on the back of corporate bonds [read corporate debt]. Vodafone has 4G in 17 circles. A merger is only way forward for both legacy players as it might help them share their spectrum holdings and bring in greater efficiency and synergy.

If I were to indulge in the risky proposition of seeing how this inflection point is going to ripple out in the next 18 months, here are four things that I will hold myself accountable to. First, expect some of the smaller telecom players to go down under or try and stay afloat by merging with like-minded companies. Second, telecom companies that have invested heavily in core infrastructure – fibre optic network, high quality equipment, denser telecom tower coverage – will start powering forward in a massive way. Third, content is going to be the king. Any telecom company that sees itself as a telecom operator is going to find it extremely difficult. Those companies that see themselves as content companies, equally invested in production, distribution and orchestrating the consumption of content, are going to rule the roost.

In short, Average Revenue Per User (ARPU) is going to rise for companies that are content providers rather than bandwidth givers. Fourth, the government is going to be a big player. A digital economy, from a starting point of ‘lesscash’ to a finishing point of ‘cashless’, will require a digital payments ecosystem. Moreover, the emphasis on electronic and mobile governance and the rapid shift to system of QR codes, e-paper tickets and e-filling of returns is going to turn the government into the largest digital service provider in the country. A telecom company that leverages this opportunity appropriately will have a distinct competitive edge. It’s going to be a hard fought battle and at the end of 18 months there might possibly be only two players standing tall and still slugging it out. Be that as it may, one thing is sure: the Indian consumer is in for a deal of his life.

(The writer is Consulting Editor Firstpost.)

Disclosure: Firstpost is part of the Network 18 media conglomerate owned by Reliance Industries


Published Date: Feb 01, 2017 03:14 pm | Updated Date: Feb 01, 2017 03:14 pm


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